Introduction. Generally, a contingency is an event that must occur (or not occur)[1] for the transaction to become binding (e.g., loan approval, condition of title, inspection report, sale of existing home, etc.). The reason it is called a “contingency” is that the transaction is contingent upon the event occurring (or not occurring), such as loan approval.

    • If the buyer is not approved for the loan, buyer must timely notify the seller or seller’s agent, and the transaction is terminated, and the deposit refunded.
    • If Buyer is approved, that contingency is deemed “satisfied” and goes away.
    • After expiration of the agreed-upon contingency period, e.g., for professional inspection, the buyer is no longer able to withdraw without losing the deposit.

All contingencies in the OREF pre-printed Sale Agreement are for the benefit of the buyer. This means that the seller cannot use the failure of a buyer’s contingency to terminate the transaction – only the buyer can do that. Continue reading “Buyer Contingencies in OREF 2022 Sale Agreement (Part One)”

Introduction. For many years before Covid, when Portland Metropolitan Association of Realtors® (“PMAR”) had live New Member Orientation (“NMO”) seminars, I spoke about real estate basics; the Sale Agreement, contingencies, financing, professional inspections, etc.

One of the topics of discussion included title insurance. I would routinely ask the new licensees for a show of hands of those who looked over the preliminary title reports (“PTR”) when they came in after an escrow was opened. Only a very few hands were ever raised.

To be clear, it is my opinion that review of the PTR is not a standard of practice or standard of care for Oregon Realtors®. They are not expected to be title experts. In other words, a broker’s failure to review the PTR is not, standing alone, client negligence or a breach of fiduciary duty.

However, if they do review the PTR, agents should never render an opinion to clients about whether title is “clear” – nor should they opine about the legal effect of the Special Exceptions to title appearing the PTRs.

If all this is true, then do Realtors® need to concern themselves with title insurance at all? Can/should they just ignore the issue entirely during their transactions? The answer is an emphatic “No.” Title insurance is included in all broker pre-licensing training for a reason.

It is an integral part of every real estate transaction, although the role title insurance plays in the pre- and post-closing process is not widely understood by sellers, buyers, Realtors® and attorneys.

The real experts are the title officers who examine the title and sign the PTRs. However, they cannot serve as the parties’ experts or attorneys. Rather, the title officer’s role is to review the public record information on the subject property that is provided by their title plant,  evaluate it, and  make sure it is accurately disclosed in the PTR. When appropriate, title officers are available to answer questions about the listed Special Exceptions, as explained below.

In the standard property transaction, the Sale Agreement gives buyers a fixed number of business days to accept or reject the information in the PTR. This contingency is one of several available to buyers after their offer has been accepted. Upon timely objection to title, the buyer is entitled to terminate the transaction and receive a full refund of the earnest money deposit.[1]

The Conundrum. But here’s the rub: If most buyers do not understand the information disclosed in the PTR, and their brokers are equally unclear, what purpose is served? How is the buyer to know whether to opt-out of the transaction (i.e., exercise the title contingency), or remain in the transaction (e.g., waive the title contingency)? Calling the title company to get direction on how to proceed will likely result in the response, “We cannot issue legal advice” – which is correct and appropriate.

The good news is that pursuant to the OREF Sale Agreement, a buyer’s failure to timely object to the information in the PTR during the contingency period does not mean the seller is free to convey unmarketable title to the buyer.[2] However, this does not mean that certain exceptions to title, such as recorded CC&Rs or easements, are meaningless and don’t need to be reviewed during the allotted contingency period. I will explain below.

 Is Title Insurance Truly “Insurance”? To answer this, we first need to define the concept of “insurance.” When we think of fire insurance or auto or health insurance, we think of a policy that provides benefits, usually compensation, in the event of an unexpected occurrence. This loss, such as a fire, collision, or illness, is the “risk” that is insured against. No one, the insurer or insured, actually knows if or when it will occur.

But protection against unknown risks cannot be strictly said of title insurance. The reason is because title insurance is not really based upon the standard concept of “risk” as described in other insurance policies.

In standard insurance, the company bases its evaluation of risk, and ultimately its cost to the consumer, upon actuarial or statistical evaluation. The company, knowing the odds, charges a premium designed to compensate it for taking the risk. But as discussed below, with title insurance, the company is permitted, in the vernacular – to hedge its bets. Some may disagree with this characterization. Regardless of how the issue is framed, typical loss and loss-adjustment expense ratios are 4% to 13% for title insurers, compared with the 65% to 85% in the property/casualty industry.[3]

How Title Companies Hedge Against Risk. When escrow is opened, the title company closely examines the public record to determine if there are any encumbrances (aka “defects,” or “clouds”) against the seller’s title. These encumbrances normally take the form of:

  • Financial matters, such as mortgages (i.e., “trust deeds” in Oregon), judgments, taxes, assessments, or other charges against the property that must be paid to be removed from title; or
  • Nonfinancial matters, such as easements, deed restrictions, or other limitations on the use of the property that typically cannot be removed.

Both matters are identified as “Special Exceptions” in the PTR and are not covered by the company’s policy of title insurance. They are excluded (i.e., “excepted”) from coverage. This means that if the insured buyer closes their purchase and goes into title, these encumbrances do not go away – they impact the title going forward.

Then What Services Do Title Companies Provide? If after finding and identifying the Special Exceptions, the company excludes them from insurance coverage, what risk are they undertaking? For what are they being paid? They just eliminated all the risks!

Title companies provide several important services to buyers. The main one is examining the chain of title and disclosing all of the matters of record affecting of the subject property.

Examination of Title. As noted, they examine the record title and disclose the information to buyers in the PTR. This includes the (a) names of the owners of fee title (hopefully the sellers whose names appear in the Sale Agreement) and all the recorded matters affecting title. This information has value to buyers, since there is no other efficient or cost-effective way for them to find out if their seller’s title is marketable, i.e., it is free and clear of objectionable liens and encumbrances, and therefore capable of being legally conveyed.

Once this information is disclosed, it is up to the buyer to decide how to proceed. If the Special Exception is financial, such as a recorded trust deed or judgment, the buyer would normally demand that the encumbrance be paid off before closing, thus removing it as a charge against the property. If it is non-financial, such as an easement or deed restrictions (“CC&Rs”),[4] the buyer should review them and decide whether they are acceptable.

 So, When Does The Title Company Ever Pay a Claim? Question: If the company reviews record title and then excludes from coverage every risk arising from that record, why would any claims ever be filed?

Answer: Because errors can occur during the examination of title. If the company misses a recorded encumbrance, such as a $25,000 judgment lien, it does not show up as a Special Exception on the buyer’s title policyi.e., it remains on the buyer’s title after closing. Thus, the buyer would have a “claim” against the title company for the error, who must then do what is necessary to remove it from title. Normally, that would mean paying off the judgment creditor and seeing that a Satisfaction of Judgment is recorded. Voila’! The buyer’s title is free of the encumbrance.

If the title company misses a non-financial encumbrance, say recorded CC&Rs, the buyer’s “claim” is more problematic, since the insured would have to establish that because of the company’s oversight, their title suffered a loss in value due to being encumbered by the recorded (but missed) CC&Rs. But most CC&Rs do not negatively impact the marketability of title, so it is hard to say any monetary loss is suffered by the owner. Accordingly, it is these nonfinancial encumbrances of record that need to be reviewed by buyers during the title contingency period. They could cause problems to certain buyers since they will remain on title if not objected to within the contingency period. An example might be a deed restriction against operating a day care facility on site or conducting certain other types of businesses.

Remember, the Sale Agreement is quite clear that the failure to timely object to a Special Exception during the contingency period constitutes a waiver of the right to do so later (subject only to the marketable title exception). Silence is consent.

However, there are some non-financial encumbrances that if erroneously missed in the title examination and therefore not listed in the Special Exceptions (such as a non-probated estate a hundred years ago), could result in a claim against the title company because there are heirs of the estate who might still have an unreleased interest in the property. This type of error would require the title company, at its cost, to locate the living heirs to obtain deeds (e.g., quitclaim deeds) from them, releasing their interest in the new buyer’s property.

ConclusionThe take-away is that if it has done its job correctly, the title company will have accurately reviewed and disclosed all public record encumbrances (financial and non-financial) in the PTR and subsequent title insurance policy as Special Exceptions. Ergo, there are no known persons with any interest in the property being conveyed – it is free and clear of objectionable liens and encumbrances.

But if it has not done its job correctly, it is likely due to the examiner’s failure to “catch” some defect in the record title and disclose it as a Special Exception.

Thus, loosely speaking, title companies are really just warranting their work; figuratively speaking, they tell their insureds that “What we’ve disclosed to you in the PTR and final policy as ‘Special Exceptions’ represent everything on the public record affecting your title.” If they are correct, their insured has been fully informed and there are no claims. If they are wrong, i.e., some recorded encumbrance has not been listed as a Special Exception and it was not caught before closing. In those instances, the company must deal with their insured’s claim under the terms of the policy.

 Two things of note:

  • There are also “Standard Exceptions” in the PTR and final title policy. If a loss arises from an event that falls within one of the Standard Exceptions, there will also be no title insurance coverage.[5] However, in most instances, these exceptions from coverage can be mitigated in advance by specific due diligence precautions taken by buyers. This is a topic for another day.
  • Additionally, there are some isolated circumstances that title companies expressly cover in their policies, such as forgery, impersonation, lack of capacity, failure of a necessary party to join in a deed, and other events which cannot easily be discerned from the record title. These can be characterized as “risks.”

Confusing? Yes. The interesting question is, given the complexity of title coverage, and the fact that most buyers in Oregon do not hire qualified attorneys for assistance, why so few title problems occur?[6] To a degree, this is attributable to good escrow officers, who can proactively spot problems, and good title officers, who are accessible to the parties – and their attorneys – when questions arise.

For a more in-depth discussion of these and other title issues, see Title Insurance 101, here, and Title Insurance 201, here~ Phil

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[1] See Section 9 of the OREF 2021 Sale Agreement.

[2] See Lines 154-155 of the OREF 2021 Sale Agreement. “However, Buyer’s failure to timely object shall not      relieve Seller of the duty to convey marketable title to the Property pursuant to Section 28 (Deed), below.”

[3] Rating Title Insurance Companies, AM Best, 2016. See link, here.

[4] It is these easements and use restrictions that buyers need to review within the title review period to make sure they do not contain any unacceptable provisions. They will not go away after closing.

[5] E.g. governmental regulations; title defects known to the insured; matters that a correct survey would disclose; unrecorded liens; parties in possession.

[6] It is important to know that most western states rely upon title insurance companies to examine title, while in the Midwest and east coast, lawyers check title. For this reason, the use of lawyers in residential real estate transactions is not commonplace where title insurance companies do the title examination such as Oregon and Washington.

FIRPTA and Buyer Liability. Until the last few years,  the Foreign Investment in Real Property Tax Act of 1980 (“FIRPTA”) was just an arcane acronym; most residential real estate brokers had no knowledge of what it stood for, what it was, or how it worked. Fewer cared. After all, they had never handled a FIRPTA transaction involving the sale of real property by “foreign persons”.[1]

But during the Great Recession, it was widely believed that as prices plummeted, many foreign persons were purchasing homes in the United States for investment. It was also widely assumed that eventually these buyers would become sellers, so the real estate industry needed to familiarize itself with FIRPTA, since it levies a 15% tax on gross proceeds at closing.

Eventually, alarm bells began to go off when it became known that if the law applied to a transaction, but was ignored, the buyer becomes automatically liable for seller’s tax bill.  Suddenly, real estate agents and their brokerages began to become concerned about their duty to appropriately inform their buyer-clients about the application of FIRPTA if the seller was a foreign person.[2] And how would they know which seller was a foreign person and which one was not?

As many brokers know, the RMLS™ listing form asks sellers whether they are a foreign person.  And until the 2019 OREF Sale Agreement form was published, it contained a representation that the seller was not a foreign person.[3]  So, the question naturally arises, “If FIRPTA applies, and the seller is a foreign person, but says they are not, are the representations in the RMLS™ listing and Sale Agreement sufficient to insulate the buyer from liability for the seller’s taxes?”  Unfortunately, the answer is “No”.

Seller Certification (or Affidavit) of Non-Foreign Status. But the buyer is absolutely protected – like crosses to vampires – if the seller signs a Certification of Non-Foreign Status (“Certificate”). It is a fairly benign document: (a) stating that the seller is not a nonresident alien for purposes of U.S. income taxation; (b) identifying their Social Security Number (or Employer Identification Number); and (c) their home address.

Above the seller’s signature is an acknowledgment that it may be disclosed to the IRS by the buyer, and that if any of the above statements are false, it could be punishable by fine, imprisonment, or both. Then, “under penalties of perjury” the seller signs declaring that they have examined the document and to the best of their knowledge and belief it is true, correct, and complete.

The Rub. Hmmm. Sounds simple enough. Nada. You see, under the FIRPTA law, the Certificate is to be given to the buyer to hold for five years. How many sellers do you suppose would willingly turn over their Social Security Number to their buyers to hold for half a decade?

 Enter the Qualified Substitute Rule. The answer is obvious – find someone else to do so. In 2008, the “Qualified Substitute” law went into effect, which “…means, with respect to a disposition of a United States real property interest— (A) the person (including any attorney or title company) responsible for closing the transaction, other than the transferor’s agent, and (B) the transferee’s agent.”[4] So in Oregon, the buyer’s real estate agent or the title company closing the transaction may serve as the Qualified Substitute for the buyer to hold the Certificate. In that capacity they must deliver to the buyer a signed declaration under penalty of perjury that they are in possession of the Certificate.

The Other Rub.  How many sellers do you suppose would willingly turn over their social security number to their buyer’s real estate agent/brokerage to hold for half a decade?

Role of Oregon Title Insurance Companies as Qualified Substitutes. Though it was not always the case, as of 2019, all major title companies in the Portland Metro area have agreed to serve as Qualified Substitutes. I believe this is also the case in the Bend area of Central Oregon.

This is an accommodation that only makes sense – who is in a better position to electronically retain the Certificate with the seller’s social security number or Tax ID Number than the title company that handled the transaction from the opening to closing of escrow, disbursement of funds, and recorded the deed of conveyance? And we know that sellers do not object to providing escrow with their social security number or Tax ID Number – it is required in order that escrow can complete and submit the 1099-S (Proceeds from Real Estate Transactions) to the IRS.

In short, Oregon title companies are the obvious entities to serve as Qualified Substitutes. And if truth be told, many – if not all of them – have been having sellers sign a Certificate for every transaction they close, regardless of whether they are “foreign persons”. What they haven’t been doing, at least until now, is “formally” acting as the Qualified Substitute, and providing every buyer with a declaration they received the seller’s Certificate and will hold it for the required five-year period of time.  This is no burden, since under Oregon Real Estate Agency regulations, title and escrow companies are required to hold their transactional records for not less than six years.

Why is This Important for Oregon Realtors?  When buyers or sellers are damaged, or believe they have been damaged, or are threatened with damage, the first place they look is to their real estate broker. If a seller lied about being a “foreign person” subject to FIRPTA and the buyer got tagged for the seller’s tax liability, it is likely they would ask their own broker why they weren’t warned about this.  And that broker could likely ask the seller’s broker why it wasn’t vetted at the time of taking the listing.

And what will escrow say when asked why they didn’t vet the issue? They will respond that they act as a “neutral” and do not render advice, and have no duty to vet the FIRPTA issue with sellers and buyers.  And lest you doubt this, sit down in a quiet room free of distractions for an hour, and closely examine the carefully drafted escrow instructions that both parties sign, and the title insurance disclaimers on their policies.

The Solution Going Forward.  Oregon Realtors have no business doing something escrow should be doing when a real estate transaction is first opened: Have the seller and buyer instruct escrow to immediately get the Certificate of Non-Foreign Status signed by the seller, and then provide a declaration to the buyer at closing that it is holding that document and will do so for the required period of time. How difficult is that? Realtors should not want their fingerprints on the Certificate. Let escrow do the job they are used to doing.

Remember, escrow has no duty to proactively vet the “foreign person” issue. That is why it is important for the brokers to make that a priority in every transction – when escrow is opened, have seller and buyer “instruct” it to (a) get a Certificate of Non-Foreign Status signed by the seller, and (b) deliver a declaration to the buyer at closing that they are holding it. If necessary, put this instruction in writing, get seller and buyer to sign, and submit it to escrow.

And an added benefit of this is that 75% of the current FIRPTA section can be eliminated from the OREF Sale Agreement, since Realtors will no longer need to vet the issue in order to protect themselves from liability. With luck, all of the current inventory of FIRPTA forms can be eliminated, since FIRPTA will no longer be the elephant in the (closing) room.

Does This Result in any Added Burden to the Title/Escrow Industry? No, they’ve been quietly getting Certificates signed for years; they already hold them for six years – one year longer than the IRS requires; they already have their seller’s Social Security or Tax ID Number; and since they already collect and disburse funds, if they have to remit the seller’s FIRPTA withholding taxes, it is simply another part of their existing closing protocols[5] – similar to that required for Oregon withholdings for out-of-state sellers.[6]

As for title and escrow companies in small towns, there are anecdotal reports that some of them may be hesitant to act as a Qualified Substitute since they are unfamiliar with the law. However, we know that their title insurance is underwritten by the larger companies.  So, the solution seems to be for the larger companies to educate their smaller brethren about this law. It isn’t complicated: It only requires having sellers sign a Qualified Substitute form and delivering a declaration to their buyers confirming they are holding it. ~Phil

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[1] According to the IRS here, “A payee is subject to nonresident alien (NRA) withholding only if it is a foreign person. A foreign person includes a nonresident alien individual, foreign corporation, foreign partnership, foreign trust, a foreign estate, and any other person that is not a U.S. person. It also includes a foreign branch of a U.S. financial institution if the foreign branch is a qualified intermediary. Generally, the U.S. branch of a foreign corporation or partnership is treated as a foreign person.”

[2] This is not to suggest that FIRPTA makes brokers automatically liable if the withholding law is ignored. But if a buyer ended up having to pay their seller’s FIRPTA withholding, that buyer could quite possibly ask: “Why didn’t my agent inform me about this risk?”

[3] Why it was removed is a mystery to me. It should be put back, along with an affirmative representation that the seller will cooperate with escrow in signing whatever documents and forms escrow requires for closing with a non-foreign person.

[4] See, https://www.law.cornell.edu/uscode/text/26/1445

[5] To be clear, title companies have never objected to withholding a seller’s FIRPTA taxes and remitting them to the IRS. The only objection by many of them – until now – has been formally serving as the Qualified Substitute.

[6] Escrow is required to withhold and disburse to the Oregon Department of Revenue taxable gains on real property sold by out-of-state residents. See, discussion here.

In residential real estate transactions, there are two basic forms of policies:

  • The Owner’s Policy. This is the standard policy of title insurance that buyers obtain upon closing. In Oregon, customary practice is that sellers pay for this policy.
  • The Lender’s Policy. This is the policy required by lenders when they make a residential purchase money loan to a buyer. In Oregon, buyers customarily pay for this policy. It covers more risks than those in the Owner’s Policy.

Continue reading “Who’s Going To Review Your Preliminary Title Report Before Closing?”

Remember, “exceptions” noted in a preliminary title report (“PTR”)[1] or title policy, are the title insurance company’s exclusions from coverage. This means, for example, that if a homeowner suffered a loss arising from an easement shown as an exception on the policy, the title company is not on the hook, since that easement was listed as an “exception” to coverage under the policy. Continue reading “What An Owner’s Policy Of Title Insurance Doesn’t Cover”

What follows is a summary of tips when the seller is, or may be, a “foreign person” as defined by FIRPTA:

Buyer Responsibilities Under FIRPTA.  If the transaction may be subject to FIRPTA, under certain circumstances, the buyer will become the “withholding agent” and be responsible for withholding seller’s tax and transmitting it to the IRS (“Withholding Requirement”).  The failure to do so can result in buyer being held liable for the funds. For this reason, prior to closing, buyers must determine whether their seller is a “foreign person” under FIRPTA and subject to the Withholding Requirement. Seller’s and Buyer’s real estate agents are not FIRPTA experts, and cannot render legal or tax advice. The parties should secure expert advice from tax counsel, CPAs, or other experts before closing.

Working With Escrow.  If the transaction will be subject to FIRPTA, the buyer and seller should so inform escrow to determine the extent to which it can assist with compliance, including handling the Withholding Requirement. If, due to company policy, escrow cannot participate in the FIRPTA-related portion of the closing, if necessary, seller and buyer should agree to move escrow to a title company that can do so, and the parties’ should equally share the cost of any cancellation fees, if applicable. If, due to moving escrow, the transaction cannot be timely closed by the Closing Date, unless the parties otherwise agree in writing, buyer’s earnest money deposit should be fully refunded, and the transaction shall be terminated.

If Seller Is A Foreign Person and Exempt From FIRPTA Withholding Requirement. If the seller is a “foreign person” as defined by FIRPTA, but is exempt from the Withholding Requirement because: (a) The sale price of the Property is not more than $300,000; and, (b) The Property will be occupied as a residence by Buyer who is an individual (or a member of Buyer’s family) for at least 50% of the number of days (excluding days the Property is vacant) during each of the first two 12-month periods following the date of Closing. Buyer should sign an agreement warranting to the seller that buyer intends to occupy the property in accordance with this exemption. Buyer and seller should thereafter agree to cooperate with each other and Escrow, by signing such documents reasonably required to close this transaction.

 If Seller Is A Foreign Person and Not Exempt From FIRPTA Withholding Requirement. Seller and Buyer should agree to cooperate with escrow in closing the transaction in accordance with the FIRPTA laws, including the Withholding Requirement.

If Seller Is Not A Foreign Person. If seller declares that they are not a “foreign person”, seller should, upon request, sign a Certificate of Non-Foreign Status (“Certificate”), which will include disclosure of Buyer’s taxpayer identification number, social security number, or employer identification number (collectively “Nonpublic Personal Information” or “NPI”). The original Certificate should either be held by Escrow, serving as a “Qualified Substitute” under FIRPTA, or alternatively, Buyer should hold the original Certificate in such capacity. In such event, Buyer should covenant and agree not to disclose Seller’s NPI to any third parties unless required to do so by subpoena or court order. Where applicable, Buyer should agree to retain the Certificate until the end of the fifth (5th) taxable year following the taxable year in which the transaction is closed, and during said time to make it available to the IRS upon lawful request.

If, for any reason, Seller fails or refuses to sign the Certificate at Closing, Buyer should terminate the transaction and obtain a refund of all Deposits paid to Escrow, but preserve any legal remedies available against Buyer under the Sale Agreement (e.g. specific performance). ~PCQ

 

FAQs PicGeneral. Ownership of real property is evidenced by a deed, which is the physical evidence that one has “title”, i.e. full ownership.  When buyers purchase property, they require some assurance that their seller: (a) Is the true owner of the property, and (b) That the title being transferred is free and clear of any objectionable liens, claims or interests of third persons. Continue reading “OK, I Have The Preliminary Title Report – Now What?”

graduationOK, you’ve passed the introductory 101 course [here].  It’s time to discuss a few of the more esoteric aspects of title insurance.  Part Two deals with the differences between various insurance policies, coverage tips, and some of the additional services provided by title companies.

[To continue, go to link here.]

SigningPapersMost everyone who has purchased a home in Oregon has obtained a title insurance policy. However, few have read them.  And those that have, likely don’t understand what is and is not covered. Here is Part One of a primer on title insurance to help folks understand what it is and what it does.

[To continue, go to link here.]